Government budgets are not like household budgets

Reckon you could run the federal government’s budget? Would you balance the books, stop the reckless spending and pay off the debt? Think again. Government budgets are not like household budgets. If you could run your household budget under the same conditions that apply to government budgets, you would face several advantages.

First, you would never die. Individuals die, but governments keep on keeping on. This means that unlike us, a government will never face a day of reckoning when it closes accounts and has to hope that its assets outweigh its debts and it does not pass on debt to its children.

Second, you would never lose your job. The main risk for households with debt is that they lose their income and are unable to service debt repayments. The good news for governments is that their income comes from the labours of others, including wages and company profits.

Collections can rise and fall, but they never disappear entirely, barring some apocalypse.
Third, you would be able to demand a pay rise whenever you wanted. With its powers of taxation, governments can at any point legislate to raise existing taxes or create entirely new ones to cover the debt repayments. Nifty, huh?

Fourth, if the economy hit financial turbulence, banks would literally beat a path to your door trying to offer you really cheap credit. On Wednesday, the Australian government’s debt manager secured a $700 million loan at an interest rate of just 4.4 per cent. Compare this with the average standard variable interest rate of 7.8 per cent paid by mortgage holders.

Debt is even cheaper for the US government, which at one point this week was paying less than 2 per cent on its 10-year debt, the lowest since 1954. In Britain, the interest rate payable on the government’s 10-year gilts (bonds) fell to 2.24 per cent, the lowest since Queen Victoria’s reign in the 1890s.

In times of turmoil, investors seek the safe haven of government bonds. Facing few alternative avenues for profitable investment, they are happy to accept a relatively small return from the government. Of course, governments with poorly run finances, such as Greece, must pay a higher rate of interest to secure loans, about 16 per cent at present.

Almost all economists agree it is desirable in the long run for governments to spend roughly what they earn. This acts as an important restraint on politicians, who would otherwise spend the world and slash taxes to win elections.

But in the shorter term, it can be bad for governments to seek to balance the books during an economic downturn.

Good governments run what economists call “counter-cyclical fiscal policy”. That is, they spend against the grain of the business cycle. When times are tough, the government spends money to stimulate growth. When times are good, they squirrel money away to save for a rainy day and keep pressure off inflation.

Of course, this often fails because politicians much prefer spending money to saving it. But the time to fix the fiscal roof is when the sun is shining, not in the pouring rain.

Remember that the next time you hear some opposition politician lecturing about the evils of government debt.

THE IRVINE INDEX

$1.2 trillion
Value of all Australian outstanding loans for owner-occupied and investment housing.

7.8%
Average standard variable mortgage interest rate from the banks.

72%
United States government net debt as a percentage of its GDP this year.

$107b
Predicted peak in Australian government net debt this financial year.

2%
Interest rate that the US Treasury is paying on its long-term debt, the lowest since 1954.

7.2%
Australian government net debt as a percentage of gross domestic product.

152%
Greek government net debt as a percentage of GDP.

4.4%
Interest the Australian government pays on its long-term debt.

16%
Interest paid by the Greek government on its long-term debt.

Sources: rba.gov.au, budget.gov.au, aofm.gov.au, imf.org

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4 Responses to Government budgets are not like household budgets

  1. evan says:

    -spend on schools have (despite the oft misquoted effectiveness report) had a great impact too
    -as will I reckon the NBN (I actually feel sorry for the MP for wrecking the NBN) will be same, I have asked all-comers and it all makes eminently good sense.
    -What do you think about Fast Rail, Syd Can Melb? Infrastructure program (not any particual proposal but a Long term plan?
    -What do you think about Tertiary spending, (It was mooted but haven’t seen roll in yet) So we are less reliant on vagaries of export of education to Asian markets?

    You can take them as a statement … *scoff* if you wish but they are just meant to be “thought grenades”

  2. mjd says:

    It’s easy to be Keynesian during the downturn, but not many want to be during the boom. If you could rely on government to run a surplus and pay off debt during boom years then deficit spending in tough times would not be such a concern. Unfortunately (and unlike Howard/Costello and Chretien/Martin in Canada), most governments in Europe and the US did not address debt levels during the good years and simply accumulated more. Now we are reaching the stage where sovereign debt levels are at levels where people are questioning whether it can be repaid. While Australia is a long way short of the debt levels of other countries the concerns at the moment are about the trajectory and a lack of confidence in the ability of this government to turn things around – as Costello said ‘It’s easy to say you are going to balance the budget, but much more difficult to do’. This is coupled with concern that the value obtained from deficit spending (Rudd’s stimulus packages) was limited and that alternative forms of stimulus (payroll tax cuts etc) may have promoted stronger GDP growth, and more significantly, delivered more momentum to the economy – but that is a separate issue.

  3. Very informative article, thank you for sharing. I don’t have to be a financial/economical geek to understand the comparison since they’re put so well together in their comparison. I’m glad I’m not a politician! nor trusted to hold a high level job in the government. I can’t wait to read your “Progress has stalled on gender equality in the workforce” article, as I am a crossdresser and have dealt with this issue at a personal level, but mainly from my family. Thank you. Have a wonderful week. Lisa

  4. Magpie says:

    This is probably one of the best views on the question of government debt I’ve seen among mainstream media.

    However, there is a school of thought that have questioned these views as a tad conservative. The point they make is that for governments (including central banks within the government sector) that issue their own fiat currency, whose debt is denominated in their own currency and is not pegged to foreign currencies, public debt is not much of a problem at all.

    Within this category are Australia, the US and the UK, but not much of the Eurozone (or China, for that matter).

    Chartalism
    http://en.wikipedia.org/wiki/Chartalism

    The article links to blogs and sites by most prominent MMTers, including the Australian Prof. Bill Mitchell.

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